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Carlyle Is Said to Be in Talks With Energy Buyout Shop

By Peter Lattman July 7, 2011 7:44 pmJuly 7, 2011 7:44 pm

The private equity giant Carlyle Group is in talks to acquire Energy Capital Partners, a buyout shop focused on investments in power plants and gas pipelines, according to two people briefed on the talks.

Carlyle’s potential acquisition of Energy Capital underscores the relentless drive by the firm to gather more assets and broaden its product line as it gears up for an initial public offering.

A Carlyle initial public offering would highlight a three-decade transformation of these firms, which were once small private partnerships that bought companies with borrowed money, but are now among the world’s most powerful asset-management businesses.

A deal for Energy Capital would be among the first transactions in which one large private equity firm buys another. Negotiations are continuing and could still fall apart, said these people, who requested anonymity because they were not authorized to discuss it publicly.

Spokesmen for Carlyle and Energy Capital declined to comment.

The firm has gone on a dizzying acquisition spree over the last year to diversify its business beyond its core private equity funds and make itself more attractive to its investors and public shareholders.

It recently took majority stakes in two hedge funds: Claren Road Asset Management, a fixed-income hedge fund with $4.5 billion in assets, and the Emerging Sovereign Group, an emerging-markets manager partly owned by the billionaire investor Julian Robertson. In January, it announced a deal to acquire 60 percent of AlpInvest Partners, a firm that manages about $43 billion for two Dutch pension fund managers.

The AlpInvest deal, which closed last week, gives Carlyle about $150 billion in assets, making it the world’s largest private equity firm as ranked by assets under management.

Carlyle’s acquisitions of new businesses is a departure from the firm’s longtime strategy of developing products from within the firm. Co-founded in 1987 by David Rubenstein, Carlyle runs about 84 separate funds, including an Asian real estate vehicle and a fund focused exclusively on buying Mexican companies. In its core buyout funds it owns businesses that include Dunkin’ Brands, the Hertz Corporation and Freescale Semiconductor.

There are potential problems with Carlyle’s rapid expansion, private equity industry observers say. By slapping its brand on a wider array of products and straying from its core competency, the firm runs a risk.

“The main risk is that Carlyle’s diversification, if not well-managed, could hurt investment performance,” said David Teten, a partner at ff Venture Capital who has published research on private equity investment management.

Carlyle has already had problems with its diversification strategy. During the financial crisis, two of its homegrown hedge funds — Carlyle Capital and Carlyle Blue Wave — collapsed after wrong-way bets in the debt markets.

In some ways, Carlyle’s acquisition binge is an effort to replicate the broad set of businesses built by the Blackstone Group, one of its chief competitors and the first large private equity firm to go public, in 2007. Blackstone, which is run by Stephen A. Schwarzman, has established hedge fund, real estate investment and investment bank advisory units that diversify its revenue.

The other large publicly traded firms, Kohlberg Kravis Roberts and Apollo, have also aggressively added new business lines in recent months. K.K.R. has hired a group of nine Goldman Sachs traders to start a hedge fund and brought on Ralph Rosenberg, a former Goldman partner, to start a real estate business. Apollo acquired the real estate investment group of Citigroup and is also in the process of raising an energy-focused fund.

None of them has yet to acquire another private equity firm, which would make Carlyle’s acquisition of Energy Capital unusual. Energy Capital, based in Short Hills, N.J., was started in 2005 by Douglas Kimmelman, also a former partner at Goldman Sachs. The firm, which manages about $7 billion in assets, has emerged as one of a handful of large private equity funds focused exclusively on the energy industry. It owns a variety of energy assets, including three power plants in New England, electrical lines in Southern California and a gas pipeline being built in Texas.

Energy Capital also owns a small stake in Energy Future Holdings, formerly TXU, which it acquired in 2007 alongside Kohlberg Kravis Roberts, TPG and Goldman Sachs for $44 billion in the largest buyout ever. The giant Texas utility has struggled amid persistently low natural gas prices and a huge debt load.

Talks between Carlyle and Energy Capital came as a surprise because of Carlyle’s longstanding relationship with Riverstone Holdings, the country’s largest energy-focused private equity firm. Carlyle and Riverstone, which have co-sponsored six energy and power funds over the last decade, notified their investors in a letter sent last week that they would not raise another fund together and would go their separate ways. Riverstone’s partners have decided to stay independent.

A few years ago, Carlyle and Riverstone both became ensnared by the New York attorney general’s investigation of corruption of the state’s public pension fund by political officials and private equity funds. Carlyle paid $20 million and Riverstone paid $30 million to resolve their roles in the case.